Page List

Are low interest rates working?

The job of a central bank, in the words of the famous old quote, is to "take away the punch bowl just when the party gets going". In other words, the bank wants to promote a healthy, growing economy and steer the economy away from recession, but not to allow the economy to overheat.

With the Aussie economy slowing in recent times, interest rates have been cut repeatedly from 4.75% to a record low of 2.75% in a bid to stimulate the economy.

A lower cash rate as set by the RBA should theoretically lead to a faster-growing economy (and eventually, possibly higher levels of inflation) because saving will become less attractive, and borrowing and spending become more appealing. So is the lower cash rate working?

Saving ration since the GFC

It's quite clear that since the global financial crisis, Aussies have been saving more and risk-aversion has been the order of the day. In theory, the household saving ratio might now begin to fall as yields on bank accounts and term deposits are so low that they are now inferior to dividend yields on many stocks.

The effect on share market indices is clear - check out the run-up in financial stock valuations below. Other sectors have also been fired up and investors shun bank accounts and deposits in search of yield. Resources stocks have been weak in contrast, as commodity prices have tanked.

Consumer spending?

Retail sales are showing promising signs, but we'll need to see a few more months of solid results here before we get more comfortable.

Household debt

Tapering, and that's good, because we don't want household debt to increase further from the current levels.

Dwelling prices

Moving up fairly strongly since May 2012, but on a national level, they remain below where they were in 2010. The RBA seems to be very comfortable at this stage, but Sydney and Perth markets seem to be heating up which will have been duly noted.

Business credit

Remains very soft at just 0.3% growth in the last reported months. This is very disappointing and much work still to be done here. The RBA may need to cut rates again to just 2.50% to get the domestic economy moving.

Dwelling approvals and construction

Residential building is up, but nowhere near enough to plug the gap left by the massive mining construction boom. This is a key reason that we are likely to see another interest rate cut.

There is some light at the end of the tunnel, potentially, as dwelling units approvals have increased very substantially over the past 12 months (more than 27% on a seasonally adjusted basis). Australia needs the approvals to translate into actual construction. Here's dwelling units approved:

Private sector houses approvals also up, although more steadily:

Source: ABS

Unemployment

Number of employed persons is increasing, which has been great to see:

Unemployment numbers reported have been all over the place, in fairness, but figures look likely to run higher than the present unemployment rate of 5.5% as the labour-intensive mining construction boom unwinds, and the trend is moderately up since 2012.

Source: ABS

Summary

Well, it depends on whether you're glass is half empty or half full.

I see lots of promising signs but much work to be done, with the RBA retaining the ammunition to cut rates further as required. Others note a slowing economy and see risk, risk and more risk.

Commodity prices have fallen which is a real concern:

On the plus side of the ledger, the Aussie dollar has tumbled dramatically against the greenback in to the 91 cent range:

Inflation remains benign and comfortable within the RBA's 2-3% target range, so it looks likely to me that we will see another rate cut in the net few months which should begin to fire up the economy.